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Lease Option & Subject-To - Advanced Strategies for Investors
This article explains advanced strategies for well-experienced real estate investors who want extra protection for their investments. Keep in mind that the strategy chosen will depend on the type of investment strategy followed. In other words, not every strategy applies to a particular situation. Also, they some solutions may not be ones an investor commonly used. However, knowledge of those solutions may come in handy in the future.
A Basic Protection-the Memorandum of Option One disadvantage of lease options, in particular, is financial difficulties on the part of the seller, resulting in liens, delinquent property taxes and the like. The result can be the time and expense of getting these issues worked out before the property can be sold.
One basic protection for you is the "memorandum of option." This document is a record against the title of the property and definitely should be recorded. It lets the public know that you have an interest in the property.
The memorandum has an important purpose--to prevent an unethical seller from selling the property out from under the investor's nose to someone else. It also provides protection from bad faith sellers trying to squirm out of their obligations. My advice--always record a memorandum of option!
Advanced Strategy 1-the Deed in Escrow You may think that the term escrow refers only to the deposit of funds by one party for delivery to another party upon completion of a specific event or condition.
But, the definition also refers to the deposit of deeds and other written financial/legal instruments. Here's my suggestion--place the deed in escrow at the same time the memorandum of option is filed. When this happens, the seller signs the deed along with the other contracts. The deed isn't recorded on the title at this point however; it's held in escrow by an attorney or title company, and they're provided with instructions for its release.
Now, this action doesn't protect against the filing of liens against the property. But, its effect is to reinforce to sellers that they've actually sold the property. This, in turn, creates reluctance on their part to try to back out on a lease option agreement.
It also has another benefit: It permits the investor to close on the property without the seller being present! With the deed in escrow, the investor should specify how and when the deed is to be released and recorded. The instructions can be simple, such as this example: "When Sam Smith pays $200,000 in certified funds to John Jones, the deed will be released to him. By (date), these funds must be paid."
Advanced Strategy 2: The Performance Mortgage This is a method whereby the seller pledges the property as collateral for the lease option agreement, ensuring good faith performance by that seller. When the mortgage is assigned to you, it prevents the seller from selling the mortgage to other people. (It replaces the filing of the memorandum of option.)
The performance mortgage allows the seller's insurance company to put the buyer's name on the owner's policy as another insured. It also shows that the buyer is a lien holder and requires that he or she be notified if any type of foreclosure action is taken.
Naturally, some sellers dislike the idea of a performance mortgage and won't agree to this deal! In the event that a performance mortgage is agreed to, an attorney should review the terminology of the mortgage to make sure the appropriate, specific clauses are included.
Advanced Strategy 3: The Land Trust A land trust is defined as an organization established to hold land and to administer use of that land. This technique is very useful with subject-to's. The purpose of a land trust is to minimize possible exposure to litigation.
It achieves this by hiding true ownership. The actual owner or beneficiary is not recorded in the public records, only the trust's name. In other words, it's difficult to get sued because litigants find it hard to identify anyone to sue.
Keep in mind that land trust contracts tend to be complicated and long so you'll definitely need an expert lawyer to draw them up.
Advanced Strategy 4: Get Yourself a Seller-Partner There may come a time when you want to consider subject-to high-end properties (in terms of quickly appreciating value). Since there's more risk involved, it's a smart idea to spread that risk. You can do this by taking on the seller as a partner. With this arrangement, you and the seller share the profits.
Here's an example: Assume a property is worth $800,000 and the monthly rental is $3,500. Under normal circumstances, an investor would usually back away from this deal. However, let's assume that the investor finds that this home might be sold for $200,000+ in profits. This deal makes good financial sense for the investor and the seller. So, they agree on a 50-50 partnership (or another percentage arrangement), and they're both happy.
My recommendation: If you take this course, require that the seller cover all the risks.
Advanced Strategy 5: Refinancing This is a tax-deferment strategy. Here's an example: Assume you have a house worth $300,000 and $230,000 is owed on it. Through a new mortgage, you can take out some or all of the $70,000 in equity, and it's not a taxable event. That means you can use that money to reinvest in other properties while still holding on to the original property.
It's a good idea to check with lenders and brokers in your area to find out what refinancing programs are available and which ones best suit your needs.
Tax Concerns The methods I've just described have to meet IRS regulations. So, you and your tax person should be on top of those regulations. They do change from time to time, and those changes can affect the legality and profitability of deals. One area to really stay on top of is capital gains.
Capital gains are the profit on the sale of a property. At the present time, you can sell your primary residence (the one actually lived in, not investment properties) every two years.
If a person is single, he or she can keep the profits up to $250,000; if a person is married, he or she can keep up to $500,000. In both instances, the profits are tax free. If the seller of a property lives in his or her home for two out of five years, then that property qualifies for a tax-free gain. The seller can rent the home out for three years - and not a single day more.
My Advice Study advanced strategies and keep them in mind as you grow your investment portfolio. More than likely, you won't need them for the majority of investments (especially early in a career), but, as is often said, knowledge is power. With that knowledge, you'll be able to apply it quickly and easily when the right situation arises.
Key Idea: Always get the Lender's written permission first. Study advanced strategies diligently, so you can make use of them at the appropriate time for maximum protection of your investments.
Article Source: OrganizingWeb.net
About the Author
Jack Sternberg is the creator of the renowned "Buyers First Program". As the "gurus' guru", he is well known by the professional creative real estate community as "Obi-Won Kenobi". Having been a full time investor since 1977, Mr. Sternberg has been "at" the closing table more than 1,500 times. Mr. Sternberg has the depth of experience that lend value to his associations. Contact Mr. Sternberg at http://www.askjacksternberg.com
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